Level 3 sees upside to turmoil

Having survived the telecom debacle earlier this decade, Level 3 Communications Chairman and Chief Executive Officer James Crowe is rather sanguine about the current hard times.

While admitting to analysts during today’s earnings call that Level 3 is seeing longer sales cycles as customers delay network service purchases, Crowe said he believes Level 3 and the telecom industry in general are well-positioned to weather the economic storm, in part because of their experience from earlier in this decade, but also because demand for IP networks and services continues to grow. Crowe was able to see the bright side in part because Level 3 posted its first profit in six years with results that exceeded Wall Street expectations. Level 3 Chief Financial Officer Sunit Patel also said the company now has the cash flow required to meet its debt obligations through 2010.

“Our visibility is certainly limited,” with regard to how bad things could get, Crowe said. “But both our company and our employees have considerable experience with uncertainty. We went through industry difficulties of a similar magnitude in the early 2000s. We have a better industry environment, and our own position is much better now than it was then. And that’s not just Level 3 but other participants in our industry. The demand for [wholesale services and data services] and the pricing are far better today than they were at the beginning of the decade. We have a large, growing and much more diversified customer base. As was apparent in our financials today, we have positive and improving free cash flow. We are in a far better position than at any time in our history to benefit from opportunities that always arrive when you have turmoil.”

That said, Crowe admitted Level 3 could make capex cuts and will base its spending plans on “the most conservative” estimate of what its revenues will be. But one of Level 3’s concurrent goals for 2009 is to “make sure we are positioned to take advantage of opportunities as longer term positive trends of business replace near-term challenges,” Crowe said.

“The underlying growth in demand and pricing fundamentals remain positive, particularly for the wholesale markets group,” Crowe said. New President and Chief Operating Officer Jeff Storey “is leading an effort to make sure network outlay and capital are aimed at areas of greatest future returns,” Crowe said.

Level 3’s Wholesale Markets Group, which contributes 49% of its network services revenue, grew only 1% in the fourth quarter of 2008 from the third quarter, reflecting the economic slowdown, Crowe said. “That’s a reflection of customer cost management and we believe a general trend to defer purchases and run networks with less bandwidth available for traffic spikes. We think the effect will be temporary.”

Level 3’s Business Markets Group saw flat to declining revenue growth, and revenue from its Content Markets Group grew 2% quarter over quarter despite disconnects by one large customer, Crowe said. The European market remains especially strong for Level 3, he said. Voice service revenue was up 5% quarter over quarter, as Level 3 took advantage of its metro network connections.

Level 3 will continue to invest in its metro networks to connect new buildings where revenue is available, Crowe said. “There is an enormous opportunity to expand our metro footprint to literally tens of thousands of locations which justify fiber,” Crowe said. “There are over 100,000 points of traffic aggregation – buildings, Internet traffic centers, [central offices] -- within 500 feet of our network, and that represents a very large opportunity and one we think Level 3 is uniquely positioned nationally to take advantage of. In general, we’ve said and continue to say we expect that relative pricing -- long-haul versus local – will continue to favor local. Metro access will continue to see relative price increases, if not absolute, and we think you will see absolute price increases for special access.”